Monday, December 22, 2008

What's An Eyeball Worth?

Interesting Business Week article on the social news site Digg. Digg is basically a news aggregater, relying on Internet users to vote for stories they like that then find their way onto the Digg site; the more votes - or "Diggs" - the higher the story ranks, and hence the closer to the top of the site it's displayed. So far, so what? Does this have any real-world enterprise value? Let's see.

Digg gets something like 1.5 million hits per month. Let's be generous and call it 20 million hits per year. Business Week reports that their revenues are likely to be around $8m for 2008 ($6.4m for 1-3Q, and assuming some fall-off from their on-going ramp thanks to the general recession.) Therefore, Digg has found a way to monetise each hit to the tune of roughly 40 cents. Not too bad, you might think, considering that they don't have to actually, you know, produce any content themselves? Not so, according to the article, that says this year they lost $4m in generating that $6.4m, or roughly speaking Digg has an expense rate of $14m to $15m per annum. On Digg's site, there are around 80 people shown as being "on the team" so that level of expense does indeed seem about right. Yeah, yeah, I have the same question: just what an earth are they all doing every day?? But let's just share the cool-aid and pretend that this level of expense is justified... somehow. What, then, does the future hold?

So here we have the classic Web 2.0 dilemma: this all looks good when both web traffic and advertising dollars are growing every month and when valuations are built around an assumption of being bought by Google, Yahoo!, Microsoft, Time Warner, Fox or someone else flush with cash and hot for web hits. Hang in there long enough, generate enough hits and voila - everyone gets to call in rich. Alas, those times are now as much history as is the Battle of Waterloo, but without the happy ending (well, for the British at least).

Last year, Digg reportedly went out with a heady $300m valuation and tried to sell themselves. They failed. Last year Digg did less than $5m in revenue and lost close to $3m in getting there. "Growth at any cost" would therefore seem to have been the prevailing mantra. Hmm, wonder how that chant's sounding right around now?

A 60x multiple is a bit cheeky in any climate; just now it's downright laughable, which might explain why Business Week reports that an additional financing round closed in September was done at a valuation of $167m, still a sum driven 100% by the prize of a rich exit through acquisition being within reach.

To be break even at a $14m expense run-rate would require Digg to attract 35 million hits per year. That's hard to see anytime soon, and by "soon" I mean ever. There's a limit to how social the world is willing to be in getting news items, even of the "ecstasy was for my dog your Honour" kind, and Digg is far from being the only game in town. Yes, they now have cash in the bank and hence time to figure all this out, but what we don't yet know is just how long-term many of these social-based businesses actually are; the available runway may be shorter than any of us know. Let's face it, there's nothing business critical here. If Digg went away tomorrow then another version of the same thing would take over, people would switch and the world will keep on turning.

I have no idea how this particular story will play out nor do I have any particular axe to grind against Digg, but it has been fascinating to see under the covers of the financial blanket that being private usually throws over the operation of a company such as this, and Digg's was just the one Business Week got to see under. Having now had a peek underneath, though, it just helps you understand that there isn't anything especially magic about these business models, other than how on earth they keep attracting the kinds of insane valuations that they apparently do. (Makes you wonder - if they went out now, what do you think that valuation would be? Bet the answer would be a lot less than $167m)

Despite the public warnings from Sequoia of "RIP The Good Times", the "land grab" mentality of Silicon Valley still appears to be alive and well. However, as the old time prospectors will tell you, there's a big difference between staking your claim and actually panning enough gold from that land to keep you supplied with whisky & beans, let alone striking it rich ....

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